Suppose Evans Co. wants to replace the Spuggett machine with a Nuggett machine.

Question

Suppose Evans Co. wants to replace the Spuggett machine with a Nuggett machine. The life expectancies are 6 and 4 years respectively. Calculate the EAC to tell me which machine should be purchased based upon the lowest cost if the required rate of return is 9 percent.

Spuggett                      Nuggett

Initial cost                    $15,000                       $10,000

Salvage value              $2,000                         $1,500

Life                              6 years                         4 years

Operating Costs          $1,000                         $700

Year 1 VC                   $3,000                         $1,800

Year 2 VC                   $3,000                         $1,800

Year 3 VC                   $3,000                         $1,800

Year 4 VC                  $3,000                         $1,800

Year 5 VC                   $3,000                         -

Year 6 VC                   $3,000                         -

Explanation / Answer

Present value of cost -Spuggett Year cost PVF@9% Pv of Cost 0 15000 1 15000 1 1000 0.917431 917 2 3000 0.84168 2525 3 3000 0.772183 2317 4 3000 0.708425 2125 5 3000 0.649931 1950 6 1000 0.596267 596 4.486 25430 Note: cash outflow at the end of the 6th year =1000(3000-2000) Present value of cost-Nuggett Year cost PVF@9% Pv of Cost 0 10000 1 10000 1 700 0.917431 642 2 1800 0.84168 1515 3 1800 0.772183 1390 4 1800 0.708425 1275 3.240 14822 Note: cash outflow at the end of the 4th year =300(1800-1500) Computation of EAC Machine Spuggett Nuggett Pv of Cost 25430 14822 PVIAF 4.486 3.240 EAC 5669 4575 Machine Nuggett should be purchased since lowest cost

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